Expected Credit Loss (ECL)

The impairment of financial assets – the expected credit loss (ECL) approach

IFRS 9 requires that credit losses on financial assets are measured and recognised using the “expected credit loss (ECL) approach”. Credit losses are the difference between the present value (PV) of cash shortfall discounted at the original effective interest rate.  

Expected credit loss could be derived by multiplying the variable, Exposure at Default (EAD), with the Probability of Default (PD) and the Loss Given Default (LGD):

ECL = EAD x PD x LGD

The ECL approach is a forward-looking model, resulting in the early recognition of credit losses. Thus, adjustments should be made such as considering the future economic conditions. Company must develop multiple economic scenarios to calculate expected credit loss.